ECONOMIC VIEW

ECONOMIC VIEW; Growth Forecasts, Without The Wait

By DANIEL GROSS

Published: February 1, 2004

THE accusation that the Bush administration stifled internal debate on its tax-cut proposals wasn't the only surprise in ''The Price of Loyalty,'' Ron Suskind's new book about the stormy tenure of Paul H. O'Neill, the former Treasury secretary.

Buried deep in the book was the news that the Treasury Department had developed a new and apparently effective means of forecasting economic growth as it was taking place.

In the fall of 2001, as Mr. Suskind relates, Mr. O'Neill asked Richard H. Clarida, a Columbia University economist who became assistant secretary of the Treasury for economic policy, to help bring the department into the 21st century. Despite the huge advances in information technology and forecasting methods, policy makers were still gauging gross domestic product -- the broadest proxy for the performance of the economy -- in much the way they had in the 1970's.

At the end of each quarter, the Bureau of Economic Analysis combines ingredients like retail sales, investment spending and exports, and whips them up into the official G.D.P. figure. But this soufflé takes time to rise. On Friday, the department released its first estimate of G.D.P. for the fourth quarter of 2003 -- some 30 days after the quarter ended. In an era when body temperature, stock prices and many other measurements can be readily made in real time, that is not good enough. After all, assumptions about economic growth affect almost everything, from government budget projections to automakers' production schedules.

Under Mr. Clarida's direction, a team led by Ralph Monaco, a career economist at the Treasury Department, began adopting forecasting techniques developed by the economists Mark W. Watson of Princeton and James H. Stock of the Kennedy School of Government at Harvard. They examined the monthly flow of 30 pieces of data that the government uses to tally G.D.P. and then figured out how each bit influenced economic growth, based on historical statistical relationships.

By adding them up, ''you amass a collection of forecasts for real G.D.P. that can give you a weighted average, relative to how well that economic indicator performed in the past,'' said John Kitchen, chief economist of the House Budget Committee.

Work began in October 2001. After the team tested the method on previous quarters, the real-time forecasting system was put into action.

In December 2001, with the economy still reeling from the terrorist attacks of Sept. 11, most forecasters -- including those in the administration -- expected the G.D.P. to contract in the quarter. But the real-time forecasting system produced an estimate of 1.1 percent growth, as Mr. Suskind reports in his book. Sure enough, in late February 2002, the Commerce Department reported that the economy grew at an annual rate of 1.4 percent in the quarter. By taking into account the real-time dynamics of the nation's highly complex economy, the new system had shown that things weren't quite as bad as most economists thought in late 2001.

Since then, the system has not always been as accurate in predicting quarterly results. According to an article by Mr. Monaco and Mr. Kitchen in the October 2003 issue of Business Economics, the system had difficulty picking up the rapid growth in the first quarter of 2002 and offered a too-optimistic prediction for the second quarter of that year.

Still, Ben Herzon, senior economist at Macroeconomic Advisers, an economic forecasting firm in St. Louis, applauds the system for the way it relies on established relationships. ''I think it's a really good approach, because it takes a lot of the judgment out of the process.'' (Macroeconomic Advisers has its own ''current quarter G.D.P. tracking sheet,'' which uses a mix of models, real data and estimates.)

BESIDES, said Mr. Clarida, who left the Treasury Department last May to return to Columbia, the real-time model tracks economic growth more realistically.

''Usually, we measure it over a quarter,'' he said, ''but conceptually it's evolving constantly.''

The economy may have grown at an annual rate of 8.2 percent for the third quarter of 2003 and by an estimated 4 percent for the fourth quarter. But it didn't shift suddenly from the higher rate to the lower rate on Oct. 1. By adjusting for new pieces of information, the real-time system is measuring the overall trend of the economy.

The system will produce the first reading on the current quarter in a matter of days. But the Treasury Department has no plans to post the forecasts on the Web. Apparently real time isn't ready for prime time.